What’s In Vogue – Or Not

1. Prediction in Vogue: 2011 will be the year of the “Super Angel”

         Reality: Given all the angel investment activity now, and the fact that it has never been easier to start a new company (low cost of computer power, plenty of talented people, plenty of real estate, etc), too many “me too” companies will be started, leading to too many companies dividing up small and emerging markets. And because angels do not typically have the ability due to their size to support numerous companies over many rounds, many angels will experience unacceptably high loss ratios. This will cause many of them to dramatically slow down their new investment pace so that they can better support their more promising companies.

2. Prediction in Vogue: China is the center of the VC-world

        Reality: While the growth rates and level of investment activity in China are very seductive, the recent dramatic IPO activity harkens back to NASDAQ 1999 and will in hindsight be considered the high water mark for VC activity in China. Notwithstanding all the euphoria in China (which is very exciting) and their robust IPO market, the broader index of leading Chinese public companies is up only 3.3% year-to-date. The dramatic capital inflows – which have masked many structural issues in the Chinese economy – will lead to increasing rates of inflation and other social dislocations. Given the poor operating and financial conditions of many Chinese enterprises, banks will find it difficult to raise interest rates to contain inflation, which will lead to an unexpected and dramatic reduction in lending activity.

3. Prediction in Vogue: Twitter is worth much more than $4 billion

        Reality: Ultimately all companies must create economic value that earns a return acceptable to the underlying invested capital. It is one thing to “build an audience,” but ultimately investors will demand that all of these social media properties generate a cash-on-cash return to invested capital. The fear is that Twitter will be determined to simply be a micro-broadcast network; this realization will send shudders throughout the social media world and will undermine all the hyper-valuations we are seeing today in this sector. And what percent of tweets go unread any way?

  4. Prediction in Vogue: VC industry has weathered the worst of it and is poised for recovery

            Reality: While the VC industry has certainly suffered mightily, the year ahead will still be challenging. Starting in early 2008 – and probably lasting through 2011 – we will have witnessed an industry being cut more than in half. In 2008 VC’s raised nearly $28 billion; in 2010 it may only be $12 billion. There are nearly 500 VC firms as members of the National Venture Capital Association (where I am a board member); arguably less than 20% of those firms can predictably and reliably raise new funds in this current environment. 

  5. Prediction in Vogue: With the general economic recovery, new VC investment pace will significantly increase

             Reality: While the absolute number of new companies funded may increase given the prominence of “Super Angels,” marginal VC firms – many of whom are late in their current fund’s new investment phase – will be reluctant to make new commitments. This will be exacerbated by the need to unexpectedly put more capital into existing portfolio companies, stressing capital reserve assumptions. The 3Q10 saw $4.8 billion of new investment commitments, which was meaningfully more than the $3 billion raised by VC firms in that same quarter; as the industry invests this “capital overhang,” new investment pace will moderate unexpectedly fast.


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6 responses to “What’s In Vogue – Or Not

  1. I’m generally in agreement with most of your commentary, including in this one, but I have to point out a logical fallacy. You say: “And because angels do not typically have the ability due to their size to support numerous companies over many rounds, many angels will experience unacceptably high loss ratios.”
    I’m assuming that you’re talking about the “super-angel”, or let’s call it micro-VC, such as 500 Hats. First, most angels lose money because a)they’re lousy, part-time investors, and b)they aren’t significantly diversified. And of those with narrow portfolios of a few holdings, it’s hard to argue that those that do well aren’t just lucky. (Same might be said for many VCs who have under 15 companies in a portfolio.) Let’s give the super-angel his due here: they are full-time professionals, almost always with entrepreneurial, operational experience, and they aim to make lots of investments. Your logic seems to imply that all it takes to improve the odds are to throw in lots of follow-on capital, which is just about the last thing that I think is a determinant of investment success. The good angel, super or otherwise, needs, like a good VC, to both add value from engagement and to also have good links to other VCs for those opportunities when more capital is needed. And those who don’t have the talents or connections to syndicate are the ones at the risk of below-average returns. Money is just about the last thing on the list. I’ll agree that a “spray and pray” technique isn’t desirable investment behavior, but I’m guessing that many of those angels writing lots of checks are bring much more to the party. As for the average angel returns–the median angel will lose money, and that has been and will always be the case, over any investing cycle.

    As for points 2&3, I can’t yet come up with an opinion, but I think you’ve nailed it on 4 and 5.

    • thanks Ty. I very much appreciate the comments. Maybe I should have been clearer – I am a very big fan of angels – super or not – as they have really re-energized the early stage community and frankly created a number of great companies for VC’s to consider investing in. My point was more along the lines of how important one’s ownership is at the time of liquidity – which may be years away after many twists and turns – and it is those twists and turns which often reduce ownership levels for investors who are not able or willing to protect their positions. Many of the angels we work with are more impressive than many traditional VC firms we co-invest with – particularly when it comes to recruiting.

      Investment value is created by making great initial selections as well as how one manages an investment over its lifetime, be it by great recruiting or protecting one’s ownership position through effective reserve management.

  2. matt harris

    Greels, haters gonna hate, tweeters gonna tweet.

    I kid. Love the post. Speak truth to power.

  3. Pingback: A Changing Landscape in Medical Devices | Jay Caplan on Medical Devices

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